Would You Do This for a Home Loan?

WHY YOU SHOULD CARE

Online brokers cut the red tape. But are they safe?

June 16, 2016

Barreling down Route 101 in San Francisco, Nicole Harvat met her future mortgage loan officer. High above the freeway stood a billboard with these words: “10% down, 100% yours” — an ad from lending startup SoFi, which approves mortgages for homes worth up to $3 million. “I remember thinking, ‘Yeah, right,’” says Harvat, 43. “But at that point, we had pretty much given up on buying a home and had been renting for seven years.”

A few days later, Harvat was on the phone with the lender. Within weeks she and her husband had been approved for a $2.15 million mortgage for a three-bedroom home in Burlingame, for which they put down $215,000. And, after consulting with several banks and loan brokers who told her she would need to put down at least 20 percent, or closer to a $430,000 down payment, Harvat is now enjoying the wisteria blooming over the pergola outside her new front door.

A growing group of startups — including Sindeo, an online brokerage that operates in a handful of states; Lenda, an online lender focused on refinancing mortgages in California, Washington state and Oregon; and SoFi, or Social Finance — are part of a burgeoning sector that seeks to streamline and modernize the mortgage-application process. They’re automating significant steps and tracking the approval progress online, without the additional processing fees, mountains of paperwork and drawn-out meetings with loan officers at banks. It sounds simple enough, but it’s part of a recent innovation to move lending away from big banks — which have been slow to make the lending transition online — and on to your smartphone.

Online lenders have continued to grow, in part by touting their mortgage-approval speed as a selling point.

Unlike a bank, these startups tend to raise money for loans through private investors, then often repackage those loans and sell them back to other investors so the companies can issue more loans. This may sound like another subprime meltdown in the works, though for their part, the startups promise a finely tuned and carefully selected book of loans — not the free-for-all that caused the financial crisis. The problem, says Andy Kessler, a former hedge fund manager and author of the book Eat People, is that lenders must keep their risk management in check so that good loans are made, but, more importantly, actually be repaid. Because they typically don’t meet their customers face to face, Kessler argues, they’re only as good as their data and algorithms. “That will separate those who do well from those who fail,” he says. “Hopefully, many fail early before too many third parties buy up packages of bad loans.”

These lenders aren’t regulated like regular banks, in part, because they don’t take deposits — they underwrite, meaning they’re supposed to check the risk of all mortgages and the potential for a borrower to default. It’s when the loans are securitized (or repackaged and sold) that problems have arisen in the past. In May, Renaud Laplanche, the chief executive of a personal lending startup, Lending Club, was ousted after an internal probe claimed the company had falsified documentation when selling $22 million of loans to an investor. (Laplanche couldn’t be reached for comment and Lending Club declined to comment.)

For borrowers, one of the main draws of startups in this space is that these companies are usually able to accept a smaller down payment on jumbo mortgages — loans that are higher than the government-backed limits of $417,000 in most areas and $625,500 in some high-priced places. Down payments can start at 10 percent, or sometimes lower, compared to the average rate of nearly 15 percent for traditional retail banks, according to RealtyTrac’s latest available report on the country’s average down payments. Harvat and her family, for example, were able to put down just over 10 percent with the remaining financed by SoFi, whereas competitors were asking for as much as 40 percent in similarly competitive areas.

That kind of flexibility, though, can come at a cost. While online lenders tend to undercut traditional mortgage brokers on rates and fees by offering interest payments as low as 2.6 percent compared to around 3.5 percent at traditional banks, “there are all these stipulations,” says David Weliver, founder of Money Under 30, a financial resources site for young professionals entering the home-buying market. “Mortgages are a custom product, but in these cases they are for the ideal situation: someone with perfect credit, the right down payment, the right income,” he says. The online format of applying for a loan has also led to certain scandals. In 2014, a class action suit accused SoFi of conducting unauthorized credit checks on prospective borrowers, which damaged their credit scores. The company ended up paying out $2.5 million in a settlement in April, though SoFi spokeswoman Laurel Toney declined to comment on the settlement.

Still, online lenders have continued to grow, in part by touting their mortgage-approval speed as a selling point. Traditional banks usually require an average of 46 days to approve a mortgage, according to a report from Ellie Mae, a mortgage data company. By plugging into myriad data sources, SoFi, Lenda and Rocket Mortgages, a spin-off of industry veteran Quicken Loans, can do so in as little as 30 days, on average, from application to funding, with applications across all these lenders completed within minutes online. Instead of requiring potential borrowers to upload key documents, Rocket, for example, links directly to public and private data sources — with customer permission — such as bank accounts and tax returns to verify a person’s information, in under 10 minutes.

But experts such as Weliver expect online lenders to loosen requirements for prospective borrowers and potentially face heightened scrutiny, especially given the subprime mortgage crisis that hit Americans not that long ago. “If they want to grow as a mortgage lender, that [high-income] market is going to become saturated,” he says. “Are they going to relax their standards a bit and start lending to people who are lower on the income tier?”